Commentaries

PMC Market Commentary: October 17, 2014

For much of the past year, markets have been calm. And for much of the past year, there has been a steady drumbeat of warnings that markets will not stay calm forever, and that the period of low volatility, low volume, and no real correction would not last. But until something happens, it hasn’t, and as much as people claim that they are prepared, when pandemonium ensues, many people still run screaming for the exits.

The past two weeks have witnessed a run on almost all asset classes: global equities have sold off hard, with some indices heading into outright correction (the Nasdaq briefly touched 10% down), and others such as the S&P 500 coming within a hair. The volatility index (the VIX) more than doubled. Equity trade volumes surged, and volume usually surges when traders, hedge funds and high-frequency algorithms combine to create rapid gyrations. Bond yields of perceived safe-haven assets such as U.S. Treasuries and German bonds dropped fast and hard, with the U.S. 10-year dipping below 1.9% when most had expected only a few weeks ago that the next major move would be toward 3%. Commodities fell; the price of oil sank, with West Texas Crude coming close to breaking $80, something that seemed very unlikely as late as Labor Day. And sovereign yields of countries perceived as riskier – Greece, Spain, and other peripheral countries – rose higher.

The proximate causes of these wild market moves were not entirely clear. In the space of a few days, the International Monetary Fund warned of zero growth and deflation in the European Union; the crisis in Syria worsened and the advances of ISIS appeared to threaten the Iraq government; and the spread of the Ebola virus to two healthcare workers in Dallas did little to calm nerves.

Yet most of these risks were well known over the summer and even before (though the spread of Ebola to the U.S. is new). The fundamentals of the global economy and of thousands of companies were the same in mid-September when stocks reached their high for the years and this past week in October when stocks touched their lows. What changed – sharply as it tends to – was sentiment. Fear and anxiety replaced complacency.

But fear and anxiety are not investment strategies. They are powerful emotions that lead to flight (given that there isn’t much to fight in the electronic world of trading). Sometimes such selling is warranted by a change in fundamentals, excessive risk taking, and overvaluation. Though there are many making those arguments about stocks today, there are compelling arguments that stocks, and especially U.S.-listed equities, are reflecting the positive economics and earnings of many companies. Indeed, the first slew of third quarter earnings, buried though they were in the market onslaught, have been quite positive, from Intel to the major banks.

Absent clear indications that global financial markets are about the freeze up, it seems more likely that the current sell-off and plunge in yields are a panic moment and a trading phenomenon and not a harbinger of a bear market in stocks or a new phase of the bull market in bonds. Panic and selling can, of course, take on a life of their own, and that is always a risk. But we have had a long period between corrections, more than two years, and while the past weeks may be unnerving, they are normal aspect of markets, even if they feel like unwanted roller-coasters when they arrive.

The information, analysis, and opinions expressed herein are for general and educational purposes only. Nothing contained in this weekly review is intended to constitute legal, tax, accounting, securities, or investment advice, nor an opinion regarding the appropriateness of any investment, nor a solicitation of any type. All investments carry a certain risk, and there is no assurance that an investment will provide positive performance over any period of time. An investor may experience loss of principal. Investment decisions should always be made based on the investor’s specific financial needs and objectives, goals, time horizon, and risk tolerance. The asset classes and/or investment strategies described may not be suitable for all investors and investors should consult with an investment advisor to determine the appropriate investment strategy. Past performance is not indicative of future results.

Information obtained from third party sources are believed to be reliable but not guaranteed. Envestnet|PMC™ makes no representation regarding the accuracy or completeness of information provided herein. All opinions and views constitute our judgments as of the date of writing and are subject to change at any time without notice.

Investments in smaller companies carry greater risk than is customarily associated with larger companies for various reasons such as volatility of earnings and prospects, higher failure rates, and limited markets, product lines or financial resources. Investing overseas involves special risks, including the volatility of currency exchange rates and, in some cases, limited geographic focus, political and economic instability, and relatively illiquid markets. Income (bond) securities are subject to interest rate risk, which is the risk that debt securities in a portfolio will decline in value because of increases in market interest rates. Exchange Traded Funds (ETFs) are subject to risks similar to those of stocks, such as market risk. Investing in ETFs may bear indirect fees and expenses charged by ETFs in addition to its direct fees and expenses, as well as indirectly bearing the principal risks of those ETFs. ETFs may trade at a discount to their net asset value and are subject to the market fluctuations of their underlying investments. Investing in commodities can be volatile and can suffer from periods of prolonged decline in value and may not be suitable for all investors. Index Performance is presented for illustrative purposes only and does not represent the performance of any specific investment product or portfolio. An investment cannot be made directly into an index.

Alternative Investments may have complex terms and features that are not easily understood and are not suitable for all investors. You should conduct your own due diligence to ensure you understand the features of the product before investing. Alternative investment strategies may employ a variety of hedging techniques and non-traditional instruments such as inverse and leveraged products. Certain hedging techniques include matched combinations that neutralize or offset individual risks such as merger arbitrage, long/short equity, convertible bond arbitrage and fixed-income arbitrage. Leveraged products are those that employ financial derivatives and debt to try to achieve a multiple (for example two or three times) of the return or inverse return of a stated index or benchmark over the course of a single day. Inverse products utilize short selling, derivatives trading, and other leveraged investment techniques, such as futures trading to achieve their objectives, mainly to track the inverse of their benchmarks. As with all investments, there is no assurance that any investment strategies will achieve their objectives or protect against losses.

Neither Envestnet, Envestnet|PMC™ nor its representatives render tax, accounting or legal advice. Any tax statements contained herein are not intended or written to be used, and cannot be used, for the purpose of avoiding U.S. federal, state, or local tax penalties. Taxpayers should always seek advice based on their own particular circumstances from an independent tax advisor.